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The Debt of Forgiveness

The IRS has traditionally treated personal forgiven debt as if it is income and taxed it accordingly. That is to say, if you lost your house to foreclosure or short sale, and the lender forgave some of your mortgage debt because the house sold for less than what you owed, the IRS would treat the mortgage debt as income and subject it to taxes. This liability ended for many homeowners with the enactment of the Mortgage Debt Relief Act in 2007.

Though that act is likely to be renewed in 2012, and thus some tax relief for distressed homeowners will continue, it’s important to know what exceptions apply and what situations may bring your mortgage debt within the tax purview of the IRS.

A recent article from CNNMoney.com lays out these scenarios. For example, if you took out cash when you refinanced your home, or were given a home-equity line of credit, then legitimately spent the money on home improvements, and subsequently lost the house to foreclosure or short sale, the IRS won’t tax you on the remaining debt waived by your lender. The IRS’ reasoning, according to the article, “is that only money spent on home improvement actually added to your home’s value. And that, presumably, diminished the difference between what you owed on your mortgage and the value of your home when it was foreclosed.”

Now, if you splurged some of that cash on new cars, vacations, or the like, prepare to hear The Tax Man tap his scythe at your door.

The CNNMoney.com piece also discusses the tax implications of losing a vacation home or investment property, as well as other possible ways out from underneath certain tax liability.

If you have questions about the tax ramifications of your short sale or foreclosure, please contact me at 813.251.2701 or e-mail me at charlie@flapropertylaw.com.

Please be advised that this article does not constitute legal advice nor does it provide any basis to form an attorney-client relationship. Nothing in this article should be copied without the express permission of the author.

Mr. Hounchell has a law degree from The University of Florida College of Law and he is a partner in The Law Offices of Charles A. Hounchell, P.A. � Attorneys & Counselors at Law, in Tampa, Florida. Mr. Hounchell obtained his undergraduate degree from The George Washington University in Washington D.C. and he obtained his MBA in International Management from the American Graduate School of International Management (“Thunderbird”) in Glendale, Arizona..

Mr. Hounchell is a licensed real estate agent with Smith and Associates, Inc. www.smithandassociates.com; www.livecasanova.com. He has lived in many different countries, including Spain, Brazil, Argentina, Mexico and Germany and he speaks Spanish and Portuguese. A significant portion of Mr. Hounchell’s law practice is concentrated on Real Estate Law. He can be reached at 813-230-3376 or charlie@floridapropertylaw.com